IHT on track to set new record with freeze on tax free limits costing up to £169,000 per family

• Inheritance tax (IHT) receipts on course for another record year, with tax take up £400m in first six months of 2023/24
• Nil rate band should be close to half a million had it tracked inflation, but still stands at just £325,000
• Couples would be able to pass on over £1.4 million tax free if both the nil rate band and residence nil rate band were linked to inflation
• Combined freeze on tax free limits means families must pay as much as £169,000 more IHT

Laura Suter, head of personal finance at AJ Bell, comments:

"The Treasury collected almost £4bn in inheritance tax (IHT) revenues in the first half of the tax year, a new record for the end of September and an increase of £400m compared to the same time last year.

"To put those figures in context, more IHT has been paid in just six months than it was in the entire year a decade earlier.

"It also means that we're on course to set a new record for the annual IHT bill, with the previous high set in 2022/23 at just over £7bn.

"The rumour mill is full of talk of IHT being scrapped, potentially as soon as the Autumn Statement next month. But if the government had instead increased the nil rate band in line with inflation, rather than putting the allowance on deep freeze, fewer people would be caught in the inheritance tax net. Increasingly these frozen bands impact the moderately wealthy - as those with large estates are covered by other thresholds and allowances and can afford professional help to minimise their bill*.

Where would the nil rate band be if linked to inflation?

"The nil rate band has been frozen at £325,000 since 2009. However, if it had increased with inflation each year it would be sitting at almost £500,000 per person from April next year, based on September CPI figures released this week. It means that estates are being hit with almost £70,000 of extra inheritance tax thanks to the frozen rate. Had the rates been raised with inflation a couple would be able to leave an estate worth £1m free of inheritance tax without having to navigate the complications of the residence nil rate band (RNRB).

"The RNRB, introduced by George Osborne in 2017, means that now a couple can leave a £1m estate free of inheritance tax, but only if they fit the criteria to use the RNRB and understand how to use it. Mr Osborne's plan was to give a bigger tax break to individuals, but by introducing a new allowance with complicated criteria rather than just extending the existing one, he has introduced vastly more complexity to the inheritance tax system. Many people are not eligible for the RNRB, meaning they are stuck with an IHT allowance from 2009.

"Even estates who do meet the criteria to use the residence nil rate band might find they lose some of the allowance because they are too big. Once an estate is worth £2m or more it sees the residence nil rate band tapered away, at a rate of £1 for every £2 over the threshold. This means it's entirely wiped out once an estate is worth £2.35m. Had this threshold increased with inflation since it was introduced in 2017 it would sit at £2.6m today. Raising the limit by inflation would help to allow for some of the house price and asset growth during that period which means many estates are hitting the threshold.

"However, the big winner of these frozen bands has been the government, which has seen inheritance tax receipts soar in recent years. June this year saw the largest ever receipts for inheritance tax, at close to £800m. What's more, it has extended the freeze until 2028, meaning the nation will see a frozen nil rate band for almost two decades.

"Often the view is that only rich people pay inheritance tax, but with the average house price today of £291,000, even a more modest property could take up the entire nil rate band for an individual. House price growth has put the fuel in the fire of the number of people paying inheritance tax. Since 2009, when the nil rate band was frozen, house prices have risen by 88%, highlighting just how the tax-free allowance has failed to keep pace with asset prices."

*Based on OTS report on IHT: https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/758367/Final_Inheritance_Tax_Report_-_web_copy.pdf